Twitter IPO: What Are You Doing?

Twitter

Source: http://www.flickr.com/photos/trekkyandy/

It’s official: Twitter Inc. (NYSE:TWTR) is a public company, and — as many expected — the market has jumped all over itself for the chance to grab a piece of the pie. The stock was priced at $26 per share on Wednesday night, 30 percent higher than the top of the $17-$20 per share price range initially floated, and jumped 73 percent at its Thursday open on the market to $45.10. Shares continued to climb after the first trade, rising as high as $50.09. This is significantly more than the average tech and Internet IPO pop of 35 percent so far this year.

CNBC calculates that Twitter has 705 million fully diluted shares, giving the company a valuation of about $32.4 billion at $46 per share.

If this valuation seems enormous, that’s because it is — at $32 billion, Twitter is worth more than half of the companies in the S&P 500 — and the million (billion?) dollar question is: Is this sustainable? Is the social media platform actually worth this much money or anywhere close to it?

Doug Kass, founder of the hedge fund Seabreeze Partners, doesn’t seem to think so. Kass tweeted on Thursday morning that he sold the majority of his stake in Twitter between $46.60 and $46.70, saying, “Reward v risk in TWTR is unattractive in high 40s.”

“A heads up,” Kass said in a separate tweet. “There is no TWTR to borrow if you intend or consider going short.”

While the market has expressed a tremendous amount of enthusiasm for Twitter stock, there are a lot of people who are more pessimistic. The company has yet to post a profit, and it reported a loss of $134 million in the first nine months of this year after losing $80 million last year. Some analysts don’t expect the company to turn a profit until 2015. Brian Weisser of Pivitol Research suggests that the company is worth $20 billion — a valuation that doesn’t change just because the market is in euphoria.

The fundamentals illustrate a strong case for waiting. Twitter breaks its revenue down into two streams, advertising services and data licensing. For the year ended 2012, Twitter pulled in $316.9 million in revenue, $269.4 million of which (85 percent) was from advertising and $47.5 million of which (15 percent) was from data licensing. This is a very different mix from 2011, when Twitter pulled in $106.3 million in revenue, $77.7 million of which (73 percent) was from advertising and $28.6 million of which (27 percent) was from data licensing. In 2010, this mix was 26 percent advertising and 74 percent data licensing.

As Twitter’s user base increased and it fine-tuned its platform and built relationships with brands and businesses, ad revenue has exploded. Ad revenue grew 961 percent in 2011 to $77.7 million and by 247 percent in 2012 to $269.4 million. As of the third quarter, ad revenue was up 113 percent on the year at $121 million, or 87 percent of total revenue. This means that Twitter’s largest revenue stream is also growing the fastest.

Twitter’s major advertising products are its three “promoted” products: promoted tweets, promoted accounts, and promoted trends. Twitter described its value proposition to advertisers in the context of what makes Twitter unique as a social platform. For example, Twitter offers “ad formats native to the user experience” — promoted tweets — that fall more or less seamlessly into a user’s timeline and achieve a natural feel that Facebook (NASDAQ:FB) has spent years trying to pin down.

Twitter also offers advertisers a level of real-time advertising that Facebook has trouble matching. The ability of Twitter to serve as the go-to platform for live information is a huge value for users, advertisers, and data partners, according to the company.

This is all good news and has played a big role in sustaining the hype around the company, and the market for digital advertising appears strong, as well.

Twitter reports that it expects the worldwide online advertising market excluding mobile to increase from $91.1 billion in 2012 to $124.7 billion in 2017. It expects the mobile advertising market to increase from $10 billion to $52.2 billion, and it expects to be a leader in this category.

Twitter reported in its S-1 that “over 65% of our advertising revenue was generated from mobile devices. We expect that the proportion of active users on, and advertising revenue generated from, mobile devices, will continue to grow in the near term.”

But to some, all this is just happy talk and does not justify Twitter’s enormous valuation.

Twitter said it had 232 million monthly active users in in September, up from 167 million a year ago. Timeline views — a measure of engagement, or use of the platform — increased about 50 percent to nearly 159 billion in September, with an average revenue per 1,000 timeline views of 97 cents, up from 80 cents in June and 65 cents in the year-ago period. Again, these data are positive, but not quite positive enough. Remember, Twitter is still losing money, and its user base is nothing compared to that of Facebook. At the moment, it appears hard to justify a higher price-to-sales for Twitter than for Facebook.

So what are you doing? Kass sold most of his stock, but there is clearly still enormous demand for shares at the high valuation. Weisser from Pivitol Research thinks the stock is worth about $37.

At $45, Twitter’s valuation strikes many as simply too large. The true test, of course, will come with time, and for the time being, most people appear to be recommending that retail investors give the market some time to cool off.

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